The dividend speculation is particularly interesting when contemplating the future of Berkshire Hathaway Inc. (NYSE:BRK.B). Buffett puts the theory more eloquently in his own words here, but the general idea is that a dividend should be instituted when the rate of return on capital is higher in investments outside the company. If the company is able to invest the money at a higher rate of return internally, then the company should in theory not provide a dividend.
Most, if not all, Berkshire investors would probably agree that giving Buffett the freedom to invest capital will likely provide a higher rate of return than investing the money elsewhere. His track record is second to none, and justifies Berkshire’s historic no-dividend policy. It follows, then, that an announced dividend would imply that Buffett and Munger no longer think they can provide returns greater than those available by investing outside of Berkshire.
This reality shouldn’t alarm investors. As Buffett himself has said in interviews and recent Shareholder Letters, it is far more difficult to produce consistently above-market returns when managing $88 billion-plus in equities and a $424 billion balance sheet. And with over $40 billion in cash in Berkshire’s coffers as of Sept. 30, 2012, the size of the investments necessary to put such a tremendous amount of capital to work are staggering. (Hence Buffett’s “elephant gun” metaphor.)
So what should we expect from Berkshire as Buffett and Munger’s succession plan continues to unfold? A dividend is highly likely, if not this year, then certainly in the years to come. Buffett’s willingness to expand the share buyback program in December 2012 suggests that he feels a need to change the corporate policies currently in place. While investors were willing to allow Buffett the freedom to invest the capital via Berkshire, when Buffett steps down, they will not give the same freedom to his successor.
The greater risk to shareholders is the change in leadership. When Buffett and Munger step down, Berkshire will still be a strong fundamental company worth an investment. But expect increased volatility, increased uncertainty, and even more changes in how the company handles all its cash and its investments.
The article The Uncertainty of Warren Buffett’s Succession Plan originally appeared on Fool.com and is written by Jay Jenkins.
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